| FLOWSERVE CORP ITEM 1A RISK FACTORS Any of the events discussed as risk factors below may occur |
| If they do, our business, financial condition, results of operations and cash flows could be materially adversely affected |
| Additional risks and uncertainties not presently known to us, or that we currently deem immaterial, may also impair our business operations |
| We have material weaknesses in our internal control over financial reporting, which could adversely affect our ability to report our financial condition and results of operations accurately and on a timely basis |
| In connection with our 2005 assessment of internal control over financial reporting under Section 404 of Sarbanes-Oxley, we identified material weaknesses in our internal control |
| We have taken measures to strengthen our internal control in response to the previously identified material weaknesses, including by implementing strengthened control procedures for information technology infrastructure, enhancing company-level monitoring controls processes and expanding our internal audit and corporate compliance functions, and engaged outside consultants to assist us in our efforts |
| For a discussion of our internal control over financial reporting and a description of the identified material weaknesses and of the steps that we have taken to remediate these and previously identified material weaknesses, see “Item 9A Controls and Procedures — Management’s Report on Internal Control over Financial Reporting |
| ” Material weaknesses in our internal control over financial reporting could adversely impact our ability to provide timely and accurate financial information |
| While we have taken measures to strengthen our internal control in response to the previously identified material weaknesses, including by implementing strengthened control procedures for information technology infrastructure, enhancing company-level monitoring controls processes and expanding our internal audit and corporate compliance functions, and engaged outside consultants to assist us in our efforts, additional work remains to be done to address the identified material weaknesses |
| If we are unsuccessful in implementing or following our remediation plan, or fail to update our internal control as our business evolves or to integrate acquired businesses into our controls system, we may not be able to timely or accurately report our financial condition, results of operations or cash flows or maintain effective disclosure controls and procedures |
| If we are unable to report financial information timely and accurately or to maintain effective disclosure controls and procedures, we could be subject to, among other things, regulatory or enforcement actions by the SEC and the NYSE, including a delisting from the NYSE, securities litigation, events of default under our new credit facilities, debt rating agency downgrades or rating withdrawals, and a general loss of investor confidence, any one of which could adversely affect our business prospects and the valuation of our common stock |
| Furthermore, there are inherent limitations to the effectiveness of any system of controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures |
| We could face additional litigation exposure and a greater likelihood of an SEC enforcement or NYSE regulatory action if further restatements were to occur or other accounting-related problems emerge |
| In addition, any future restatements or other accounting-related problems may adversely affect our financial condition, results of operations and cash flows |
| If we fail to comply with the requirements of Section 404 of Sarbanes-Oxley, our business prospects and stock valuation could be adversely affected |
| Section 404 of Sarbanes-Oxley of 2002 requires our management to report on, and our independent registered public accounting firm to attest to, the effectiveness of our internal control over financial reporting |
| This legislation is relatively new, and neither companies nor accounting firms have significant experience in complying with its requirements |
| We expended significant resources to comply with our obligations under Section 404 with respect to 2004 and 2005 |
| If we are unable to comply with our obligations under Section 404 in the future or experience delays in future reports of our management and outside auditors on our internal control over financial reporting, or if we fail to respond timely to any changes in the Section 404 requirements, we may be unable to timely file with the SEC our annual or periodic reports and may be subject to, among other things, regulatory or enforcement actions by the SEC and the NYSE, including delisting from the NYSE, securities litigation, events of default under our new credit 11 _________________________________________________________________ [74]Table of Contents facilities, debt rating agency downgrades or rating withdrawals and a general loss of investor confidence, any one of which could adversely affect our business prospects and the valuation of our common stock |
| We are currently subject to securities class action litigation, the unfavorable outcome of which might have a material adverse effect on our financial condition, results of operations and cash flows |
| A number of putative class action lawsuits have been filed against us, certain of our former officers, our independent auditors and the lead underwriters of our most recent public stock offerings, alleging securities laws violations |
| We believe that these lawsuits, which have been consolidated, are without merit and are vigorously defending them and have notified our applicable insurers |
| We cannot, however, determine with certainty the outcome or resolution of these claims or the timing for their resolution |
| The consolidated securities case is currently set for trial on March 27, 2007 |
| In addition to the expense and burden incurred in defending this litigation and any damages that we may suffer, our management’s efforts and attention may be diverted from the ordinary business operations in order to address these claims |
| If the final resolution of this litigation is unfavorable to us, our financial condition, results of operations and cash flows might be materially adversely affected if our existing insurance coverage is unavailable or inadequate to resolve the matter |
| The ongoing SEC and foreign government investigation regarding our participation in the United Nations Oil-for-Food Program could materially adversely affect our Company |
| On February 7, 2006, we received a subpoena from the SEC regarding goods and services that certain foreign subsidiaries delivered to Iraq from 1996 through 2003 during the United Nations Oil-for-Food Program |
| This investigation includes a review of whether any inappropriate payments were made to Iraqi officials in violation of the Foreign Corrupt Practices Act |
| The investigation includes periods prior to, as well as subsequent to our acquisition of the foreign operations involved in the investigation |
| We may be subject to liabilities if violations are found regardless of whether they relate to periods before or subsequent to our acquisition |
| In addition, one of our foreign subsidiary’s operations is cooperating with a foreign governmental investigation of that site’s involvement in the United Nations Oil-for-Food Program |
| This cooperation has included responding to an investigative trip by foreign authorities to the foreign subsidiary’s site, providing relevant documentation to these authorities and answering their questions |
| We are unable to predict how or if the foreign authorities will pursue this matter in the future |
| We believe that both the SEC and this foreign authority are investigating other companies from their actions arising from the “Oil-for-Food” program |
| We are in the process of reviewing and responding to the SEC subpoena and assessing the implications of the foreign investigation, including the continuation of a thorough internal investigation |
| Our investigation is in the early stages and has included and will include a detailed review of contracts with the Iraqi government during the period in question and certain payments associated therewith |
| Additionally, we have and will continue to conduct interviews with employees with knowledge of the contracts and payments in question |
| We are in the early phases of our internal investigation and as a result are unable to make any definitive determination whether any inappropriate payments were made and accordingly are unable to predict the ultimate outcome of this matter |
| We will continue to fully cooperate in both the SEC and the foreign investigations |
| Accordingly, if the SEC and/or the foreign authorities take enforcement action with regard to these investigations, we may be required to pay fines, consent to injunctions against future conduct or suffer other penalties which could potentially materially impact our business financial statements and cash flows |
| Potential noncompliance with US export control laws could materially adversely affect our business |
| We have notified applicable US governmental authorities of our plans to investigate, analyze and, if applicable, disclose past potential violations of the US export control laws through, in general, the export of products, services and technologies without the licenses possibly required by such authorities |
| If and to the extent 12 _________________________________________________________________ [75]Table of Contents violations are identified, confirmed and so disclosed, we could be subject to substantial fines and other penalties affecting our ability to do business outside the United States |
| The Internal Revenue Service (“IRS”) is auditing our tax returns, and a negative outcome of the audit would require us to make additional tax payments that may be material |
| We have recently concluded an IRS audit of our US federal income tax returns for the years 1999 through 2001 |
| Based on its audit work, the IRS has issued proposed adjustments to increase taxable income during 1999 through 2001 by dlra12dtta8 million, and to deny foreign tax credits of dlra2dtta4 million in the aggregate |
| The tax liability resulting from these proposed adjustments will be offset with foreign tax credit carryovers and other refund claims, and therefore should not result in a material future cash payment, pending final review by the Joint Committee on Taxation |
| We anticipate this review will be completed by December 31, 2006 |
| The effect of the adjustments to current and deferred taxes has been reflected in previously filed financial statements |
| During 2006, the IRS will commence an audit of our US federal income tax returns for the years 2002 through 2004 |
| While we expect that the upcoming IRS audit will be similar in scope to the recently completed examination, the upcoming audit may be broader |
| Furthermore, the preliminary results from the audit of 1999 through 2001 are not indicative of the future result of the audit of 2002 through 2004 |
| The audit of 2002 through 2004 may result in additional tax payments by us, the amount of which may be material, but will not be known until that IRS audit is finalized |
| In the course of the tax audit for the years 1999 through 2001, we have identified record keeping and other material internal control weaknesses, which caused us to incur significant expense to substantiate our tax return items and address information and document requests made by the IRS We expect to incur similar expenses in future periods with respect to the upcoming IRS audit of the years 2002 through 2004 |
| Due to the record keeping issues referred to above, the IRS has issued a Notice of Inadequate Records for the years 1999 through 2001 and may issue a similar notice for the years 2002 through 2004 |
| While the IRS has agreed not to assess penalties for inadequacy of records with respect to the years 1999 through 2001, no assurances can be made that the IRS will not seek to assess such penalties or other types of penalties with respect to the years 2002 through 2004 |
| Such penalties could result in a material impact to the consolidated results of operations |
| Additionally, the record keeping issues noted above may result in future US state and local tax assessments of tax, penalties and interest which could have a material impact to the consolidated results of operations |
| The recording of increased deferred tax asset valuation allowances in the future could affect our operating results |
| We currently have significant net deferred tax assets resulting from tax credit carry forwards, net operating losses, and other deductible temporary differences which are available to reduce taxable income in future periods |
| Based on our assessment of our deferred tax assets, we determined, based on projected future income and certain available tax planning strategies, that dlra239 million of our deferred tax assets will more likely than not be realized in the future and no valuation allowance is currently required for this portion of our deferred tax assets |
| Should we determine in the future that these assets will not be realized, we will be required to record an additional valuation allowance in connection with these deferred tax assets and our operating results would be adversely affected in the period such determination is made |
| We operate and manage our business on a number of different computer systems, including several aging Enterprise Resource Planning (“ERP”) systems that rely on manual processes, which could adversely affect our ability to accurately report our financial condition, results of operations and cash flows |
| We operate and manage our business on a number of different computer systems, including disparate legacy systems inherited from our predecessors |
| Some of our computer systems, as well as some of our computer hardware, are aging and contain inefficient processes |
| For example, several of our older ERP systems rely on manual processes, which are generally labor intensive and increase the risk of error |
| Furthermore, as discussed below under “Item 9A Controls and Procedures”, as of the end of 2005, we did not maintain adequate information technology 13 _________________________________________________________________ [76]Table of Contents general controls, as our information technology general controls supporting restricted access to financial applications, programs and data |
| Unless we are able to enhance our computer systems generally and information technology general controls specifically, our ability to identify, capture and communicate pertinent information may be compromised, which in turn may compromise our ability to timely and accurately report our financial condition, results of operations or cash flows |
| Economic, political and other risks associated with international operations could adversely affect our business |
| A substantial portion of our operations is conducted and located outside the US We have manufacturing or service facilities in 31 countries and sell to customers in over 70 countries, in addition to the United States |
| Moreover, we outsource certain of our manufacturing and engineering functions to, and source our raw materials and components from China, Eastern Europe, India, Latin America and Mexico |
| Accordingly, our business is subject to risks associated with doing business internationally, including: • changes in foreign currency exchange rates; • instability in a specific country’s or region’s political or economic conditions, particularly in emerging markets and the Middle East; • trade protection measures, such as tariff increases, and import and export licensing and control requirements; • potentially negative consequences from changes in tax laws; • difficulty in staffing and managing widespread operations; • difficulty of enforcing agreements and collecting receivables through some foreign legal systems; • differing and, in some cases, more stringent labor regulations; • partial or total expropriation; • differing protection of intellectual property; • unexpected changes in regulatory requirements; • inability to repatriate income or capital; and • difficulty in administering and enforcing corporate policies, which may be different than the normal business practices of local cultures |
| For example, political unrest and a two-month nation-wide work stoppage in Venezuela in 2002 negatively impacted demand for our products from customers in that country and other customers, such as US oil refineries, that were affected by the resulting disruption in the supply of crude oil |
| Similarly, the military conflict in the Middle East softened the level of capital investment and demand for our products and services in that region, notwithstanding the historically high prices for oil |
| Additionally we are investigating or have investigated certain allegations regarding foreign management engaging in unethical practices prohibited by our Code of Business Conduct which could have inappropriately benefited them at Company expense |
| We are exposed to fluctuations in foreign currencies, as a significant portion of our revenue, and certain of our costs, assets and liabilities, are denominated in currencies other than US dollar |
| The primary foreign currencies to which we have exposure are the Euro, British pound, Canadian dollar, Mexican peso, Japanese yen, Singapore dollar, Brazilian real, Australian dollar, Argentinean peso and Venezuelan bolivar |
| Certain of the foreign currencies to which we have exposure, such as the Argentinean peso, have undergone significant devaluation in the past |
| Although we enter into forward contracts to economically hedge our risks associated with transactions denominated in foreign currencies, no assurances can be made that exchange rate fluctuations will not adversely affect our financial condition, results of operations and cash flows |
| Our international operations are subject to a variety of laws and regulations, including the US Foreign Corrupt Practices Act and regulations issued by the US Customs Service, the Bureau of Industry and Security, various foreign governmental agencies, including applicable customs, currency exchange control and transfer pricing 14 _________________________________________________________________ [77]Table of Contents regulations and various programs administered by the United Nations |
| No assurances can be made that we will continue to be found to be operating in compliance with, or be able to detect violations of, any such laws or regulations |
| In addition, we cannot predict the nature, scope or effect of future regulatory requirements to which our international operations might be subject or the manner in which existing laws might be administered or interpreted |
| We have notified applicable US governmental authorities of our plans to conduct a voluntary thorough audit of our compliance with the US export control laws and, if applicable, make a voluntary self-disclosure of any potential violations identified, as applicable |
| If violations are identified, then such disclosure could result in substantial fines and other penalties |
| In order to manage our day-to-day operations, we must overcome cultural and language barriers and assimilate different business practices |
| In addition, we are required to create compensation programs, employment policies and other administrative programs that comply with laws of multiple countries |
| We also must communicate and monitor standards and directives across our global network |
| Our failure to successfully manage our geographically diverse operations could impair our ability to react quickly to changing business and market conditions and to enforce compliance with standards and procedures |
| Our future success will depend, in large part, on our ability to anticipate and effectively manage these and other risks associated with our international operations |
| Any of these factors could, however, adversely affect our international operations and, consequently, our results of operations, financial condition and cash flows |
| We may be unable to deliver our backlog on time which could affect our future sales and profitability and our relationships with customers |
| At December 31, 2005, backlog reached dlra994dtta1 million, a record level for the Company |
| In 2006, our bookings and backlog have continued to increase through, at least March 31, 2006 |
| Our ability to meet customer delivery schedules for backlog is dependent on a number of factors including, but not limited to, sufficient manufacturing plant capacity, access to the raw materials and other inventory required for production, an adequately trained and capable workforce, project engineering expertise for certain large projects, and appropriate planning and scheduling of manufacturing resources |
| Many of the contracts we enter into with our customers require long manufacturing lead times and contain penalty clauses related to on-time delivery |
| Failure to deliver in accordance with customer expectations could subject us to financial penalties, may result in damage to existing customer relationships, could negatively impact our financial performance, and potentially cause adverse changes in the market price of our outstanding common stock |
| Our business depends on the levels of capital investment and maintenance expenditures by our customers, which in turn are affected by the cyclical nature of their markets and their liquidity |
| Demand for most of our products depends on the level of new capital investment and maintenance expenditures by our customers |
| The levels of capital expenditures by our customers depend, in turn, on the general economic conditions and conditions in their industry, as well as on their liquidity |
| The businesses of many of our customers, particularly general industrial companies, chemical companies and oil refineries, are, to varying degrees, cyclical and have experienced periodic downturns |
| Our customers in these industries historically have tended to delay large capital projects, including expensive maintenance and upgrades, during economic downturns |
| For example, demand for our products and services from our general industrial customers, such as steel and pulp and paper manufacturers, was negatively impacted by the US recession in the early part of this decade |
| Similarly, in response to high oil and natural gas prices and a weak demand for their products due to the soft economy, during the past several years our chemical customers reduced their spending on capital investments and operated their facilities at lower levels, reducing demand for our products and services |
| Some of our customers may delay capital maintenance even during favorable conditions in their markets |
| For example, while high oil prices generally spur demand for our products and services in upstream petroleum markets, they often reduce demand for our products and services from oil refineries, as refiners seek to take advantage of favorable margins by operating at high levels of capacity utilization and deferring maintenance |
| 15 _________________________________________________________________ [78]Table of Contents The ability of our customers to finance capital investment and maintenance may be affected by factors independent of the conditions in their industry |
| For example, despite high natural gas prices in 2003, there was little additional investment or maintenance activity by our gas customers, many of which have experienced liquidity constraints as a result of financial difficulties related to their former energy trading activities |
| Recently, amid increasing demand for crude and its derivatives and the tight market conditions, oil refineries have been scheduling maintenance activities and upgrading equipment to meet environmental regulations |
| In addition, chemical companies had been able to invest and maintain their equipment as they pass through the price increases to the end user |
| This recent evidence suggests a potential change in how the customer response to market conditions may impact our business activities |
| The diminished demand for our products and services could lead to excess manufacturing capacity and subsequent accelerated erosion of average selling prices in our industry, which could adversely affect our business, results of operations, including profit margins, financial condition and cash flows |
| As we expand our customer alliance programs, an increasing portion of our revenues will be on a fixed-fee basis, subjecting us to the risks associated with cost overruns |
| As part of our customer alliance programs, we enter into maintenance agreements that are fixed-fee arrangements |
| Under these agreements, we provide maintenance services, including replacement parts and repair services, at a specified fixed fee and, accordingly, bear the risk of cost overruns |
| While we conduct a detailed analysis of the customers’ equipment prior to entering into fixed-fee maintenance agreements and benefit from our extensive experience in the flow control industry, our failure to estimate accurately the anticipated equipment failures and maintenance costs could have a material adverse effect on our results of operations, including profit margins, financial condition and cash flows |
| We sell our products in highly competitive markets, which results in pressure on our profit margins and limits our ability to maintain or increase the market share of our products |
| The markets for our products are fragmented and highly competitive |
| We compete against large and well-established national and global companies, as well as regional and local companies, low cost replicators of spare parts and in-house maintenance departments of our end user customers |
| We compete based on price, technical expertise, timeliness of delivery, previous installation history and reputation for quality and reliability, with price competition tending to be more significant for sales to original equipment manufacturers |
| Some of our customers are attempting to reduce the number of vendors from which they purchase in order to reduce the size and diversity of their inventory |
| To remain competitive, we will need to invest continuously in manufacturing, marketing, customer service and support and our distribution networks |
| No assurances can be made that we will have sufficient resources to continue to make the investment required to maintain or increase our market share or that our investments will be successful |
| If we do not compete successfully, our business, our financial condition, results of operations and cash flows could be adversely affected |
| Environmental compliance costs and liabilities could adversely affect our financial condition, results of operations and cash flows |
| Our operations and properties are subject to extensive regulation under environmental laws |
| These laws can impose substantial sanctions for violations or operational changes that may limit production |
| We must conform our operations to applicable regulatory requirements and adapt to changes in such requirements in all countries in which we operate |
| We use hazardous substances and generate hazardous wastes in most of our manufacturing and foundry operations |
| Many of our current and former properties are or have been used for industrial purposes, and some may require clean-up of historical contamination |
| We are currently conducting investigation and/or remediation activities at a number of locations where we have known environmental concerns |
| In addition, we have been identified as one of many potentially responsible parties at four Superfund sites |
| 16 _________________________________________________________________ [79]Table of Contents We have incurred, and expect to continue to incur, operating and capital costs to comply with environmental requirements |
| In addition, new laws and regulations, stricter enforcement of existing requirements, the discovery of previously unknown contamination or the imposition of new clean-up requirements could require us to incur costs or become the basis for new or increased liabilities that could adversely affect our financial condition, results of operations and cash flows |
| We are party to asbestos-containing product litigation that could adversely affect our financial condition, results of operations and cash flows |
| We are a defendant in a large number of lawsuits that seek to recover damages for personal injury allegedly resulting from exposure to asbestos-containing products formerly manufactured and/or distributed by us |
| All such products were used as self-contained components of process equipment, and we do not believe that there was any emission of ambient asbestos-containing fiber during the use of this equipment |
| Although we are defending these allegations vigorously and believe that a high percentage of these lawsuits are covered by insurance or indemnities from other companies, there can be no assurance that we will prevail or that payments made by insurance or such other companies would be adequate, and unfavorable rulings, judgments and/or settlement terms could adversely impact our financial condition, results of operations and cash flows |
| Our business may be adversely impacted by work stoppages and other labor matters |
| As of December 31, 2005, we had approximately 13cmam000 employees, approximately half of whom were located in the United States |
| Of our US employees, approximately 7prca are represented by unions |
| We also have unionized employees in Argentina, Australia, Austria, Belgium, Brazil, Canada, Finland, France, Germany, Italy, Japan, Mexico, the Netherlands, Spain, Sweden, Switzerland and the United Kingdom |
| Although we believe that our relations with our employees are good and we have not experienced any recent strikes or work stoppages, no assurances can be made that we will not in the future experience these and other types of conflicts with labor unions, works councils, other groups representing employees, or our employees generally, or that any future negotiations with our labor unions will not result in significant increases in the cost of labor |
| Inability to protect our intellectual property could negatively affect our competitive position |
| We rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality provisions and licensing arrangements to establish and protect our proprietary rights |
| We cannot guarantee, however, that the steps we have taken to protect our intellectual property will be adequate to prevent misappropriation of our technology |
| For example, effective patent, trademark, copyright and trade secret protection may be unavailable or limited in some of the foreign countries in which we operate |
| In addition, while we generally enter into confidentiality agreements with our employees and third parties to protect our intellectual property, such confidentiality agreements could be breached, and may not provide meaningful protection for our trade secrets and know-how related to the design, manufacture or operation of our products |
| If it became necessary for us to resort to litigation to protect our intellectual property rights, any proceedings could be burdensome and costly, and we may not prevail |
| Furthermore, adequate remedies may not be available in the event of an unauthorized use or disclosure of our trade secrets and manufacturing expertise |
| If we fail to successfully enforce our intellectual property rights, our competitive position could suffer, which could harm our sales, results of operations and cash flows |
| Our success will depend to a significant extent on our ability to retain senior executives and other key personnel |
| During 2004 and 2005, we appointed a new Chief Executive Officer, Chief Financial Officer, Corporate Treasurer, Controller and Chief Accounting Officer, Chief Compliance Officer, Chief Information Officer, Vice President of Tax and a Vice President of Human Resources, and we created and staffed new positions responsible for accounting policy and procedures, financial reporting, tax compliance and internal audit |
| Our future success depends to a significant degree on the skills, experience and efforts of our newly appointed and existing senior management and other key personnel |
| The loss of the services of our Chief Executive Officer, Chief Financial Officer or other key personnel could adversely affect our ability to implement our business strategy |
| To promote continuity of senior management, in March 2005 our Board of Directors approved a Transitional Executive Security 17 _________________________________________________________________ [80]Table of Contents Plan, which provides financial incentives to key management personnel to remain employed by us for the near term |
| No assurances can be made, however, that we will be successful in our efforts to retain key members of our senior management |
| If we are unable to obtain raw materials at favorable prices, our operating margins and results of operations may be adversely affected |
| We purchase substantially all electric power and other raw materials we use in the manufacturing of our products from outside sources |
| The costs of these raw materials have been volatile historically and are influenced by factors that are outside our control |
| In recent years, the prices for energy, metal alloys, nickel and certain other of our raw materials have increased, with the prices for energy currently exceeding historical averages |
| We also strive to offset our increased costs through Continuous Improvement Program (“CIP”), where gains are achieved in operational efficiencies |
| If we are unable to pass increases in the costs of our raw materials to our customers, our operating margins and results of operations may be adversely affected |
| Significant changes in pension fund investment performance or assumptions relating to pension costs may have a material effect on the valuation of our obligations under our defined benefit pension plans, the funded status of these plans and our pension expense |
| We maintain defined benefit pension plans that are required to be funded in the United States, the United Kingdom, Canada, Japan, Mexico and The Netherlands, and defined benefit plans that are not required to be funded in Germany, France, Austria and Sweden |
| Our pension liability is materially affected by the discount rate used to measure our pension obligations and, in the case of the plans that are required to be funded, the level of plan assets available to fund those obligations and the expected long-term rate of return on plan assets |
| A change in the discount rate can result in a significant increase or decrease in the valuation of pension obligations, affecting the reported status of our pension plans and our pension expense |
| Significant changes in investment performance or a change in the portfolio mix of invested assets can result in increases and decreases in the valuation of plan assets or in a change of the expected rate of return on plan assets |
| Changes in the expected return on plan assets assumption can result in significant changes in our pension expense |
| We currently expect to make substantial contributions to our US and foreign defined benefit pension plans during the next three years, and may make additional substantial contributions thereafter |
| An exemption from the registration requirements of the Securities Act may not be available for certain acquisitions of interest in our common stock fund in the Flowserve Corporation Retirement Savings Plan (“401(k) plan”) which exposes us to potential liabilities, including rescission rights |
| As of May 1, 2005, due to the non-current status of our financial filings with the SEC, our Registration Statements on Form S-8 were no longer available to cover offers and sales of securities to our employees and other persons |
| Since that date, the acquisition of interests in our common stock fund under our 401(k) plan by plan participants may have been subject to the registration requirements of the Securities Act of 1933 or applicable state securities laws and may not have qualified for an available exemption from such requirements |
| Federal securities laws generally provide for a one-year rescission right for an investor who acquires unregistered securities in a transaction that is subject to registration and for which no exemption was available |
| As such, an investor successfully asserting a rescission right during the one-year time period has the right to require an issuer to repurchase the securities acquired by the investor at the price paid by the investor for the securities (or if such security has been disposed of, to receive damages with respect to any loss on such disposition), plus interest from the date of acquisition |
| These rights may apply to affected participants in our 401(k) plan |
| Based on our current stock price, we believe that our current potential liability for rescission claims is not material to our financial condition or results of operations; however, our potential liability could become material in the future if our stock price were to fall below participants’ acquisition prices for their interest in our stock fund during the one-year period following the unregistered acquisitions |
| 18 _________________________________________________________________ [81]Table of Contents A significant number of stock option exercises following the removal of the current suspension on stock option exercises would have a dilutive effect on our earnings per share We have a substantial number of outstanding stock options granted in past years to employees under our stock option plans which have not been exercisable for an extended period due to our non-current filing status relating to our SEC financial reports |
| Given the significant increase in our share price during the period in which optionees have been unable to exercise their options, it is possible that many holders may want to exercise soon after they are first able to do so |
| If, following our removal of the current suspension on stock option exercises, the holders of a large number of these options promptly exercise, there would be some dilutive impact on our earnings per share |
| The impact on our earnings per share is dependent upon share price, number of shares and strike price of shares exercised |
| We may incur material costs as a result of product liability and warranty claims, which could adversely affect our financial condition, results of operations and cash flows |
| We may be exposed to product liability and warranty claims in the event that the use of one of our products results in, or is alleged to result in, bodily injury and/or property damage or our products actually or allegedly fail to perform as expected |
| While we maintain insurance coverage with respect to certain product liability claims, we may not be able to obtain such insurance on acceptable terms in the future, if at all, and any such insurance may not provide adequate coverage against product liability claims |
| In addition, product liability claims can be expensive to defend and can divert the attention of management and other personnel for significant periods of time, regardless of the ultimate outcome |
| An unsuccessful defense of a product liability claim could have an adverse affect on our business, results of operations and financial condition and cash flows |
| Even if we are successful in defending against a claim relating to our products, claims of this nature could cause our customers to lose confidence in our products and our company |
| Warranty claims are not covered by insurance, and we may incur significant warranty costs in the future for which we would not be reimbursed |
| Our outstanding indebtedness and the restrictive covenants in the agreements governing our indebtedness limit our operating and financial flexibility |
| We are required to make mandatory payments and, under certain circumstances, mandatory prepayments on our outstanding indebtedness which may require us to dedicate a substantial portion of our cash flows from operations to payments on our indebtedness, thereby reducing the availability of our cash flows to fund working capital, capital expenditures, research and development efforts and other general corporate purposes and could limit our flexibility in planning for, or reacting to, changes in our business and in the industry |
| In addition, the agreements governing our bank credit facilities and our other outstanding indebtedness impose significant operating and financial restrictions on us and somewhat limit management’s discretion in operating our businesses |
| These agreements limit our ability, among other things, to: • incur additional debt; • make capital expenditures; • change fiscal year; • pay dividends and make other distributions; • prepay subordinated debt, make investments and other restricted payments; • enter into sale and leaseback transactions; • create liens; • sell assets; and • enter into transactions with affiliates |
| In addition, the credit facilities contain covenants requiring us to deliver to lenders leverage and interest coverage financial covenants and our audited annual and unaudited quarterly financial statements |
| Our ability to 19 _________________________________________________________________ [82]Table of Contents comply with these covenants may be affected by events beyond our control |
| Failure to comply with these covenants could result in an event of default which, if not cured or waived, may have a material adverse effect on our financial condition, results of operations and cash flows |
| We may not be able to continue to expand our market presence through acquisitions, and any future acquisitions may present unforeseen integration difficulties or costs |
| Since 1997, we have expanded through a number of acquisitions, and we may pursue acquisitions of businesses that are complementary to ours in the future |
| Our ability to implement this growth strategy will be limited by our ability to identify appropriate acquisition candidates, covenants in our credit agreement and other debt agreements and our financial resources, including available cash and borrowing capacity |
| In addition, acquisition of businesses may require additional debt financing, resulting in higher leverage and an increase in interest expense, and could result in the incurrence of contingent liabilities |
| Should we acquire another business, the process of integrating acquired operations into our existing operations may encounter operating difficulties and may require significant financial resources that would otherwise be available for the ongoing development or expansion of existing operations |
| Some of the challenges associated with acquisitions include: • loss of key employees or customers of the acquired company; • conforming the acquired company’s standards, processes, procedures and controls, including accounting systems and controls, with our operations; • coordinating operations that are increased in scope, geographic diversity and complexity; • retooling and reprogramming of equipment; • hiring additional management and other critical personnel; and • the diversion of management’s attention from our day-to-day operations |
| Furthermore, no guarantees can be made that we will realize the cost savings, synergies or revenue enhancements that we may anticipate from any acquisition, or that we will realize such benefits within the time frame that we expect |
| If we are not able to address the challenges associated with acquisitions and successfully integrate acquired businesses, or if our integrated product and service offerings fail to achieve market acceptance, our business could be adversely affected |
| Forward-Looking Information is Subject to Risk and Uncertainty This Annual Report and other written reports and oral statements we make from time-to-time include “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act of 1995 |
| All statements other than statements of historical facts included in this report regarding our financial position, business strategy, plans and objectives of management for future operations, industry conditions, market conditions and indebtedness covenant compliance are forward-looking statements |
| In some cases forward looking statements can be identified by terms such as “may,” “will,” “should,” “expect,” “plans,” “seeks,” “anticipate,” “believe,” “estimate,” “predicts,” “potential,” “continue,” “intends,” or other comparable terminology |
| These statements are not historical facts or guarantees of future performance but instead are based on current expectations and are subject to significant risks, uncertainties and other factors, many of which are outside of our control |
| We have identified factors that could cause actual plans or results to differ materially from those included in any forward-looking statements |
| These factors include those described under the heading “Risk Factors” above, or as may be identified in our other SEC filings from time to time |
| These uncertainties are beyond our ability to control, and in many cases, it is not possible to foresee or identify all the factors that may affect our future performance or any forward-looking information, and new risk factors can emerge from time to time |
| Given these risks and uncertainties, you should not place undue reliance on forward-looking statements as a prediction of actual results |
| 20 _________________________________________________________________ [83]Table of Contents All forward-looking statement included in this Annual Report are based on information available to us on the date of this Annual Report and the risk that actual results will differ materially from expectations expressed in this report will increase with the passage of time |
| We undertake no obligation, and disclaim any duty, to publicly update or revise any forward-looking statement or disclose any facts, events or circumstances that occur after the date hereof that may affect the accuracy of any forward-looking statement, whether as a result of new information, future events, changes in our expectations or otherwise |
| This discussion is provided as permitted by the Private Securities Litigation Reform Act of 1995 and all of our forward-looking statements are expressly qualified in their entirety by the cautionary statements contained or referenced in this section |